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Payday Loan Industry Contracts as Watchdog Bites

Posted by Tom Magor in Banking on 9 November 2016 - Tom is a Senior Credit Analyst at checkmyfile.

In the wake of a crackdown from the Financial Conduct Authority (FCA), the payday lending industry has drastically contracted, represented by a near 70% reduction in overall lending. To draw upon Russell Hamblin-Boone of the Consumer Finance Association, a mere 1.8m short term loans were issued over the course of 2015, compared to 10m in 2012.

At its peak, there were nearly 250 short term lenders operating within the market. However, a considerable number have left the market entirely, with only 60 authorised firms remaining.

Lenders were forced to operate under stringent controls after tougher regulations were imposed in 2014 and 2015 to protect borrowers from unreasonable fees and compounding interest rates which adversely impacted the profitability of many such firms. In many cases, offering payday loans was no longer commercially viable.

The new rules mean that borrowers cannot incur costs which exceed a daily interest rate of 0.8% and the total amount of interest repayable cannot be greater than the amount of the initial loan. Furthermore, the maximum late payment fee that can be charged is £15 over the entire length of the loan. While such short term loans are still generally characterised by high interest rates, lenders have an obligation to ensure that customers can afford them and are treated fairly should they be faced with financial difficulties.

Mr Hamblin-Boone has also stressed that as opposed to the historical negative stereotypes, the timely repayment of such loans should have a positive influence on a customer’s credit files as it displays their ability to meet repayments as they fall due. He says, “What we need to look at to prevent financial exclusion is rewarding people with good borrowing behaviour regardless of the type of lending they choose.”

The point was also raised that consumers who obtain such short term finance options represent an array of backgrounds and socio-economic classes. The average annual income of a borrower is £25,500, only slightly lower than the UK average of £26,000. They are also more likely to be in full time employment than the population as a whole.

The FCA crackdown saw a number of high profile payday lenders faced with large fines and compensation demands. In 2014, Wonga were forced to pay in excess of £2.5m to around 45,000 customers surrounding misleading debt collection practices. In a similar fashion, CFO Lending, who traded under Payday First and Money Resolve, had to repay nearly £35m to nearly 100,000 consumers.

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Professor Edward Altman first published the Altman Z-score formula in 1968 to evaluate the likelihood of a businesses going bust within two years. The legacy of this system lives on, with the fundamental basics of his score helping to shape the Credit Scoring systems we use today - whether that’s a simple application for car finance or assessing the economic strength of an entire nation.

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